Internal and External Equity

Internal Equity is a situation that results when people feel that performance fairly
determines the pay for each individual with a certain job or that relative difficulty
results in appropriate differences in pay rates between jobs. Worker dissatisfaction
may arise when internal equity principles aren’t met. Internal equity studies analyze the
nature of a particular position including skill, effort, responsibility, and working conditions.
The internal equity study determines whether there is “pay equity” between like
positions. This study ensures compliance with the Federal Equal Pay Act and state laws,
thereby avoiding potential lawsuits. Additionally, an internal equity study makes good
managerial sense in that employee morale, and consequently productivity will increase.

External Equity An effective employee compensation system must balance two factors:
worker motivation and labor costs. In designing a company’s pay plan, you must
consider external equity as well as internal equity. External equity refers to comparisons with
other competitive pay structures. An employer’s goal should be to pay what is necessary
to attract, retain, and motivate a sufficient number of qualified employees. This requires
a base pay program that pays competitively. Among others, internal data such as turnover
rates and exit interviews can be helpful in determining the competitiveness of pay rates.
As is true for internal equity perceptions, global pay experts indicate that employee
external pay fairness perceptions mostly focus on base pay, career development opportunity
and merit increases. Personal recognition perceptions were not as prevalent as
base pay, career development, and merit pay. This is probably because it is not easy in the
international marketplace for most employees to compare what is done in the employee’s
own organization compared to other organizations.